IR35 - What is IR35? (The Basics Explained)

Introduction: Understanding IR35 in Simple Terms

IR35, officially known as the 'Intermediaries Legislation', is one of the most significant pieces of UK tax legislation affecting self-employed contractors and freelancers. Introduced in 2000, its primary aim is to tackle tax avoidance by identifying cases where workers provide services through an intermediary (typically a limited or personal service company) but operate in a way that closely resembles employment. This guide explains IR35 in plain English: what it is, why it exists, how it works, who decides your status, and what you can do to stay compliant.

What is IR35?

IR35 refers to tax legislation designed to assess whether a contractor is genuinely self-employed or a 'disguised employee' for tax purposes. The term "IR35" comes from the press release "Inland Revenue 35" announcing the rules in 1999.

As a result of this tax legislation, if you're deemed to be working as a disguised employee, HMRC will expect you to pay income tax and National Insurance Contributions (NICs) just like a regular employee, despite invoicing through your limited company.

Example: If you're an IT contractor performing the same tasks as a full-time staff member and under the same control, you might fall inside IR35.

IR35 status can change with each engagement, meaning contractors must evaluate every new contract individually.`

Why Was IR35 Introduced?

Prior to IR35, some employees would resign from their roles and return to the same job as a contractor via a limited company. This move allowed them and their employers to:

• Avoid employer NICs.
• Take advantage of lower tax rates on dividends.
• Bypass employee benefits like holiday or sick pay.

IR35 was introduced to prevent this kind of tax avoidance and ensure fair taxation based on actual working arrangements. HMRC defines tax avoidance as "bending the rules of the tax system to gain a tax advantage that Parliament never intended."



Inside vs Outside IR35 Dilemma 

Understanding whether your contract is inside or outside IR35 is essential:

• Inside IR35: You are treated as an employee for tax purposes. PAYE income tax and NICs must be paid. However, you don’t receive employment rights like sick pay or holiday pay.
• Outside IR35: You are considered genuinely self-employed and can benefit from tax efficiencies, such as drawing dividends.

 How IR35 Status is Determined

HMRC considers several factors when deciding whether a contractor falls inside or outside IR35. The most important include:

• Control: Who decides how, when, and where the work is done? If the client dictates this, you're more likely to be inside IR35.
• Mutuality of Obligation (MOO): Is there an ongoing obligation for the client to offer work and for you to accept it? If yes, this suggests employment.
• Personal Service/Substitution: Can you send someone else to do the work? If you must carry out the work yourself, it's more likely you are inside IR35.

Other Relevant Factors:

• Financial risk (e.g., rectifying your own mistakes).
• Provision of equipment.
• Being “part and parcel” of the organisation.
• Business presence (website, insurance, multiple clients).

These elements help build a 'status picture' to establish whether you are in business on your own account or effectively an employee.

HMRC also uses a tool called CEST (Check Employment Status for Tax), although it has received criticism for lacking nuance in some determinations. Many contractors and businesses prefer independent IR35 assessments.

IR35 and the Off-Payroll Working Rules

In 2017 (public sector) and 2021 (private sector), the government introduced reforms to the way IR35 is enforced:

• Before Reform: Contractors were responsible for determining their own IR35 status.
• After Reform:
• In the public sector and for medium or large private companies, the client is responsible for determining status.
• For small private businesses, contractors still determine their status.

Clients must issue a Status Determination Statement (SDS) explaining their IR35 decision. If a contractor disagrees, they can dispute the SDS via a client-led disagreement process.

If a client fails to respond to a dispute within 45 days, they may become responsible for tax liability. This means understanding and negotiating IR35 status with clients has become a vital part of contracting.

IR35 Tests: In Detail

There are, however, three key tests which are considered most important, when deciding on your IR35 status.

These are:

Personal Service

• Is the service you provide your client a personal one or do you offer a genuine business to business service?
• Do you have the right to provide a substitute worker to perform the duties, as any other business would be able to?

Control:

• To what extent does your client control the services you carry out, if at all?
• Do you fall under the direct control of your client or are you able to dictate how the work is carried out?

Mutuality of Obligation (MOO):

•  Is there an obligation for the client to provide consistent and paid work and are you obliged to accept this work?

Other important factors include the following. These would apply depending whether you use your clients' equipment or your own or if you carry any financial risks. 

• Substitution: Can you send a substitute? This is strong evidence of self-employment.
• Mutuality of Obligation (MOO): Does the client have to keep giving you work, and must you accept it? If yes, it suggests employment.
• Financial Risk: Do you risk not being paid or having to fix errors in your own time?
• Part and Parcel: Are you integrated like an employee (email address, ID badge, team meetings)?
• Business Presence: Do you work for multiple clients, advertise, or carry insurance?

No one factor is decisive. HMRC looks at the overall picture.

What is the 'Deemed Payment' Calculation?

When you're inside IR35, you may need to calculate a 'deemed payment' – an amount treated as employment income, subject to PAYE taxes.

Steps:

1. Remove a 5% allowance (pre-April 2021 only).
2. Add benefits received directly.
3. Deduct allowable expenses and pension contributions.
4. Deduct capital allowances.
5. Deduct employer NICs already paid.
6. Deduct salary already paid.
7. Calculate and deduct Employer NIC on the remaining amount.
8. Pay tax and NICs due on the final figure.

Post-April 2021, if the fee-payer (agency or client) is responsible for the tax, they handle this calculation.

IR35 and Umbrella Companies

If you’re inside IR35, many contractors choose to work through an umbrella company, which handles payroll, tax, and compliance.

Benefits:

• Taxes deducted at source.
• Access to limited employment rights.
• Less admin burden.

Drawbacks:

• Higher tax burden (no dividends).
• Umbrella company fees.
• Less autonomy than running your own limited company.

To find out more about limited vs umbrella companies, read here.

IR35 and Limited Companies (Personal Service Companies - PSCs)

Many contractors still operate through a PSC for flexibility and tax efficiency when outside IR35.

Advantages:

• More take-home pay via dividends.
• Control over work and finances.
• Limited liability.

Disadvantages:

• Admin and accounting costs.
• IR35 risk and exposure to HMRC enquiries.

To support outside IR35 status, contractors are encouraged to:

• Work for multiple clients.
• Maintain professional indemnity insurance.
• Have a business website and branding.
• Avoid being integrated into a client’s team.

Handling an IR35 Enquiry by HMRC

If HMRC suspects IR35 misclassification, they can investigate. A typical process involves:

1. Opening Letter: HMRC requests contracts and financials.
2. Meeting: Optional; written communication preferred.
3. Client Contact: HMRC verifies working practices.
4. Decision: HMRC may demand tax repayment + interest + penalties.

You can appeal via:

• Alternative Dispute Resolution (ADR).
• IR35 Tribunal.

Recent tribunal cases show HMRC often loses when challenged by well-prepared contractors.

11. What Contractors Can Do About IR35

• Review Contracts: Ensure they reflect true working practices.
• Get Professional Help: Use accountants or IR35 specialists.
• Gather Evidence: Emails, timesheets, refusal of work, substitution examples.
• Use Review Services: Independent status assessments.
• Challenge Wrong SDS: Use the disagreement process.
• Maintain a Strong Business Identity: Multiple clients, website, branding.
• Document Differences from Employees: E.g., absence reporting, refusal of unrelated tasks.
  

April 2024 Updates

Recent changes to IR35 include a new HMRC approach where, in cases of disputed status, they will use reasonable assumptions and their best judgement to estimate how much tax has already been paid. This is to help prevent double taxation — where tax is unintentionally paid twice on the same income.

These updates are part of a broader push to modernise IR35 and better reflect today’s contractor workforce. They may also affect how clients evaluate and communicate IR35 decisions in the future, so it’s more important than ever for contractors to understand their obligations.

Conclusion: IR35 is Complex, But Manageable

IR35 can significantly impact your take-home pay, working rights, and administrative responsibilities.

Whether you operate as a sole contractor or hire others, understanding your status is critical to remain compliant and avoid costly penalties. IR35 is not just about a contract’s wording – it’s about how the relationship works in real life.

By staying informed, seeking professional advice, and structuring engagements carefully, contractors can navigate IR35 with confidence.

For more guidance, consider consulting specialists or services that offer contract reviews, dispute support, and compliance advice tailored to your industry.

1. What is IR35?

IR35 is a UK tax legislation designed to identify “disguised employees” — people who provide services through their own limited company (or intermediary) but work like full-time employees. If you're caught by IR35 (i.e., “inside IR35”), HMRC expects you to pay income tax and National Insurance just like a regular employee would. The rules aim to ensure that everyone pays the correct tax depending on how they actually work, not just how their contract is written.

2. Will Brexit delay IR35?

No, Brexit has no impact on IR35. IR35 is UK domestic tax law, so it operates independently of EU regulations. The rollout of IR35 reforms in the private sector in April 2021 went ahead as planned, despite the UK leaving the EU. Any delays to IR35 would come from UK government decisions, not from Brexit.

3. How to stay outside IR35

To remain outside IR35, you must genuinely operate as a self-employed business. That includes:

• Having the right to send a substitute to do your work
• Maintaining control over how, when, and where you work
• Avoiding mutual obligations between you and your client to continuously offer and accept work
• Taking on financial risk (e.g., fixing mistakes at your own cost)
• Working for multiple clients, having business insurance, and marketing yourself

It’s also important that your contract reflects this reality — and not just in name only.

4. What is IR35 UK?

IR35 in the UK is a set of tax rules aimed at contractors and freelancers who work through intermediaries like limited companies. It determines whether a contractor is truly self-employed (outside IR35) or effectively an employee for tax purposes (inside IR35). If inside IR35, you’ll pay tax similar to an employee — but without employment benefits. IR35 applies in both the public and private sectors.

5. What IR35 means?

IR35 refers to a UK tax rule that decides whether a contractor is self-employed or working like an employee. If HMRC thinks you're a “disguised employee,” then you’re considered inside IR35, meaning you’ll pay PAYE tax and National Insurance just like a staff member would. It’s all about the reality of your working relationship, not just the contract.

6. Will IR35 be delayed?

There are no current plans to delay IR35. While previous reforms were postponed (such as the 2020 private sector rollout being delayed to 2021 due to COVID), further delays or repeals would need to be announced by the UK government. As of now, the rules are in effect and contractors must comply.

7. What is IR35 status?

IR35 status refers to whether a particular contract is inside or outside the IR35 rules:

• Inside IR35 means you are seen as an employee for tax purposes and pay full PAYE taxes.
• Outside IR35 means you are genuinely self-employed and can benefit from tax efficiencies such as dividends.

IR35 status is determined on a contract-by-contract basis, and can vary depending on how you work with each client.

8. Are there going to be contracts outside IR35 in April?

Yes, contracts outside IR35 are still possible — even after the reforms. Clients can still engage contractors on an “outside IR35” basis if the working arrangement genuinely reflects self-employment. However, medium and large businesses now bear responsibility for assessing status, so they may be more cautious. That said, many businesses continue to offer outside IR35 roles, especially in IT, engineering, and consulting.

9. What to do after setting up a Ltd company as a contractor (IR35)?

Once you’ve set up your limited company as a contractor, here’s what you should do with IR35 in mind:

• Make sure your contracts reflect a genuine business-to-business relationship.
• Review each contract to determine IR35 status.
• Keep clear records of your independence (e.g., using your own equipment, multiple clients).
• Consider getting professional advice or a contract review.
• Register for taxes (Corporation Tax, PAYE, VAT if applicable).
• Maintain business insurance (like professional indemnity cover).

Being proactive helps reduce the risk of falling inside IR35 unexpectedly.

10. Does IR35 affect sole trading subcontractors?

No, IR35 does not apply to sole traders. IR35 is only relevant if you work through an intermediary such as a limited company or personal service company (PSC). However, HMRC can still challenge the employment status of sole traders under separate employment status rules — so it’s important to ensure your self-employment is genuine even if IR35 doesn’t apply.